Which of These 3 Foreign Education Stocks Should You Buy?

As the U.S. for-profit education sector continues to face headwinds, investors are putting foreign education companies such as Nord Anglia Education (NYSE: NORD) , Tarena International (NASDAQ: TEDU) and Xueda Education (NYSE: XUE) on their radar. While the international education market generally offers more attractive growth opportunities than the U.S. market, the different market segments (e.g. K-12, continuing education) boast diverse characteristics that warrant further study.

K-12 premium schoolsK-12 premium schools are generally defined as schools serving expatriate or affluent local families, using English as the primary medium of instruction, and charging significantly higher tuition fees (more than $10,000 per year).

Premium schools tend to enjoy strong pricing power because of customers' low price sensitivity. Expatriates, who accounted for close to three-quarters of Nord Anglia's student population, usually have their children's tuition fees covered by child education benefits provided by employers.

In the case of local families, the increasing affluence of economies and individuals has also contributed to growing demand for premium schools. For example, of the 11 countries that Nord Anglia operates in, nine of them (except for the U.S. and United Arab Emirates) have at least doubled their per capital GDP between in the decade ended 2011.

While the prospects for premium schools look promising, not all of the operators benefit equally from this emerging trend. Nord Anglia is a leader in the international premium school market, boasting a global network of 27 premium schools in 23 locations in 11 countries.

Nord Anglia's size gives it tremendous bargaining power with both potential acquisition targets and real estate landlords. It was able to successfully acquire schools in China, Switzerland and Thailand, because the previous owner-operators had confidence in Nord Anglia's reputation and track record. Furthermore, a developer in Shanghai-Puxi funded Nord Anglia's capacity expansion costs, as it wanted to attract more expatriates to Puxi.

Nord Anglia has a very high student retention rate of 97% in the most recent academic year. This is because premium school students are inclined to stay enrolled in the same school until their parents relocate or when they graduate. For the past three years, Nord Anglia also managed to raise its tuition fees by approximately 4%-6% per year during the same period, while maintaining the average student tenure for the past three years at three-and-a-half years. This is indicative of pricing power.

Personalized tutoring servicesThe Chinese primary and secondary tutoring market is projected to grow from 162 million RMB in 2011 to 220 million RMB in 2014, as per IDC forecasts. This is in line with the increasing affluence of Chinese families. Between 2006 and 2013, China's per capita disposable income of urban households has more than doubled; and education spending as a proportion of family income increased 13-fold during the past 27 years.

Xueda is the market leader in Chinese primary and secondary school tutoring services, with a network of 408 learning centers across 77 cities as of December 2013. It has an edge over its competitors because of its strong brand and cost efficiency. It was named the "2012 Most Recognized Brand In After-School Tutoring by Parents" in January 2013 by China.com.cn.

Xueda has managed to leverage its brand name to raise its average hourly course fees by an impressive 2009-2013 CAGR of 9.6%. It also managed to improve productivity by spreading fixed labor and rental costs over a larger revenue base. Xueda's net revenues per full-time instructor and net revenues per square meter increased by 24.4% and 19.8% year over year, respectively, to $33,470 and $1,210 in 2013.

However, Xueda has exhibited some weakness in student retention. Its refund rate, defined as the percentage of course fee refunded out of total course fees collected, has been increasing steadily during the past three years, from 7.1% in 2011 to 8.6% in 2013. The problem lies with education consultants, whose role is to do a preliminary evaluation of prospective students and formulate customized study plans for them.

A spike in resignations of education consultants in 2011 contributed to the increase in Xueda's refund rate. Xueda has subsequently made improvements to its employee incentive systems, with a resulting decline in attrition rates for its service professionals from 25.2% in 2011 to 23.6% in 2013. The inability to successfully recruit and retain education consultants continues to be a key risk for Xueda.

IT professional education servicesThe Chinese IT professional education market is expected to expand at a 2013-2017 CAGR of 11.6% from 7.7 billion RMB in 2013 to 12.0 billion RMB in 2017, according to IDC research. This parallels the growth of China's IT services industry, which increased revenues by 12% in 2013.

As the largest player in the Chinese IT education space with 8.3% market share, Tarena is well-positioned to take market share from weaker competitors in this fragmented market. Its excellent job-placement record has been a key differentiating factor. Tarena's student job placement rates are as high as 90%, and its students scored average salaries about 14.3% higher than the national average. As a result, it has managed to increase the number of student enrollments and average revenue per student by 48% and 10%, respectively, in 2013.

The biggest risk associated with Tarena's business is affordability. More than half of Tarena's students paid tuition fees by taking out loans provided or arranged by the three financial services companies. Tarena has a cooperative agreement with Bank of Beijing Consumer Finance Company, its largest source of student loans, which will expire in August this year. While Nord Anglia's customers are generally well-off, and the parents of Xueda's students spend only about a third of the household income on education expenditures, there is a high possibility of Tarena's students dropping out if they can't get financing.

Foolish final thoughtsOf the three foreign education stocks, my top pick is Nord Anglia, because of its geographical diversification and high student-retention rates. In contrast, Xueda faces challenges hiring and retaining education consultants; while Tarena run the risk of a spike in student attrition if they can't access financing.

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